What Is a Call Date on a Bond?

Bonds represent a loan from an investor to a borrower, such as a corporation or government. The borrower pays periodic interest and repays the principal on a set maturity date. Some bonds include a “call date,” a feature important for investors to understand as it affects potential returns.

Understanding Callable Bonds

A callable bond grants the issuer the right, but not the obligation, to repurchase the bond from the bondholder before its scheduled maturity date. Unlike a bondholder selling in the secondary market, the decision to repurchase rests solely with the issuer. The “call date” refers to the specific date or dates when the issuer can exercise this early redemption right. Multiple call dates can be outlined, forming a call schedule.

This provision is detailed in the bond’s prospectus or indenture, which specifies terms like the call price. If the issuer calls the bond, they pay the investor the call price, often the bond’s face value or a small premium, plus any accrued interest.

Reasons for Calling Bonds

The primary motivation for an issuer to call a bond is a decline in prevailing interest rates. This is comparable to a homeowner refinancing a mortgage for a lower rate. When market interest rates fall below the coupon rate of their outstanding bonds, issuers can call those bonds.

By calling existing bonds, the issuer can issue new bonds at lower current market rates, reducing borrowing costs and interest expenses. Other reasons for calling bonds include an improved credit rating, allowing them to borrow at more favorable rates, or a desire to reduce their overall debt burden.

Implications for Investors

When a callable bond is redeemed, the investor receives their principal back, often with a small premium, but loses future interest payments. This creates “reinvestment risk,” the possibility of reinvesting principal at a lower interest rate, especially if rates have fallen. If current interest rates are lower than the bond’s original coupon rate, finding a comparable investment with the same yield may be difficult.

Investors in callable bonds should consider “yield to call” (YTC) and “yield to maturity” (YTM). YTM represents the total return if the bond is held until its original maturity date. YTC calculates the annualized return if the bond is called at its first or next eligible call date. For callable bonds, especially when interest rates are declining, YTC is often the more relevant measure of potential return, as it reflects the likelihood of early call.

Key Features of Callable Bonds

Callable bonds include features providing investors with protection or information. “Call protection” refers to a period during which the bond cannot be called by the issuer. This ensures investors receive interest payments for a guaranteed initial timeframe, regardless of interest rate changes. Call protection duration varies, with some bonds immediately callable and others protected for several years.

Another feature is the “call premium,” an amount paid above the bond’s face value if it is called. This premium compensates the investor for early redemption and potential loss of future interest income. For instance, a bond callable at 102% of its par value means an investor receives $1,020 for a $1,000 bond if called. Investors can identify if a bond is callable by reviewing its prospectus or bond description.